We do need to see inflation coming down decisively, and good evidence of that would be a series of down monthly readings. Of course, that's what we'd all love to see. But I've never thought of that as the appropriate test for slowing the pace of increases or for identifying the appropriately restrictive level that we're aiming for. We need to bring our policy stance down to a level that's sufficiently restrictive to bring inflation down to our 2 percent objective over the medium term. How will we know that we've reached that level? Well, we'll take into account the full range of analysis and data that bear on that question, guided by our assessment of how much financial conditions have tightened, the effects that tightening is actually having on the real economy and inflation. Taking into consideration lags. As I mentioned, we will be looking at real rates, for example, all across the yield curve and all other financial conditions and as we make that assessment.

— Fed Chair Jerome Powell, November 2, 2022

It felt like the Fed this week ended up playing the markets for a hand of the street magician’s favorite three-cup shell game. Chair Powell deftly removed the pea from under cup one—more near-term 75-basis-point rate increases. But (surprise!) the pea appears again under cup three, in the guise of an ultimately higher terminal fed funds rate. The move was a slick one that managed to thread the needle between slowing the pace of rate increases and preventing financial markets from believing that this was a major pivot. Such a pivot would risk easing financial conditions prematurely and dampening the Fed’s efforts to quell inflation. Ultimately, as the quote above notes, where rates are headed will almost entirely depend on the behavior of inflation.

In this Economics Weekly, we once again review the current inflation narrative, with the view that prices are rolling over and should continue to moderate over the coming year, which should give the Fed room to pause.

For a copy of this report or to subscribe to the Economics Weekly or Economic Indicators reports, please contact your William Blair representative.

Richard de Chazal, CFA, is a London-based macroeconomist covering the U.S. economy and financial markets.